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Stephen S. Roach, former Chairman of Morgan Stanley Asia and the firm's chief economist, is a senior fellow at Yale University's Jackson Institute of Global Affairs and a senior lecturer at Yale's School of Management. He is the author of Unbalanced: The Codependency of America and China.

My glimpse of the financial world remains a causal reader going through the business newspaper along with the foyer main newspaper. For some time, it makes me wonder how the emerging economies central bankers make their monetary policies awaiting the imminent Federal Reserve raising interest rates.
Why does every action of US affect other economies? Therefore, it implies that we are living in an integrated world. The stock market upheaval or jubilation makes an impact to the functional currency of that country.
While trying to make some understanding of Ben Bernanke era and his quantitative easing after long deliberation from various writers is a conclusion that it is nothing but devaluing the currency. Making exports cheaper and printing excess money. This necessitates other economics to do something in equal terms as Abenomics of Japan.
We need progress within the economy but not shift the epicenter to some other nation backyard. We cannot be saying that ‘monetary policy’ is an internal pursuit of growth but an extended hand of a global phenomenon. While emerging economies are basking on a limited glory that their markets are doing very well due to heavy FII but the covert fear is cash outflows will be a disaster to their economy.
Every central banker invariably of these economies forced to have a buffer stock of currency to insulate the currency whenever there is an outflow. Therefore, the monetary policies are nothing but ‘merry go round’.
The central bankers of today’s world are all mainstream academia and many economic advisors to their high administration offices. Therefore, all this mayhem is unjustified.

This is an incredibly bizarre piece. Mr. Roach's argument seems to amount to: "Factors X, Y, and Z, including inadequate aggregate demand, are depressing inflation, so the Fed should raise interest rates to fight asset bubbles." This makes absoluetly no sense.

Raising interest rates is, inherently, a deflationary policy. It raises the cost of borrowing, depresses demand, and puts downward pressure on wages and prices. In an environment with low inflation and a still-too-weak labor market, insisting that we need to hike rates because low rates aren't "normal" and we might have asset price bubbles is ridiculous. The "natural" rate of interest is one which minimizes inflation while keeping unemployment as low as possible. Right now, both inflation and employment indicate that the natural rate is at or close to zero. There's nothing "normal" about higher rates in this situation-- setting rates is a reactive rather than a proactive exercise.

Even if Mr. Roach is right and asset bubbles are forming, using monetary policy to fight them is terrible policy. A good analogy, in Ben Bernanke's words, is to spanking all of your children when one misbehaves. Preventing asset price bubbles is best done through targeted interventions in asset markets-- not by inducing a depression in the real economy because financial markets might be speculating wildly.

What seems missing from economic discussion is the demographic imperative. Without considering this there is no discussion of validity. Retirement of the baby boom cohort is what is keeping western economies in deflation. They control 77% of the US net worth, so any slackening in their spending is very important.
Harry Dent points out a spending wave which rises and falls with demographic factors. The pattern of people's spending is easily followed and right now this spending is tanking. Until millennials etc start spending as their income rises, deflation will last, probably for another 8 years.
In the meantime if we want to exit deflation the treasury has to engineer a deficit spend. There's no lack of targets, like infrastructure renewal, on which to spend. Deficit hawks have to understand austerity is counterproductive.

John Doyle-Good post. This is old now but the replacement of the retiring 65 year old by the 35 year old at reduced wage is part of the argument. As is income redistribution to the top. Those numbers are dramatic. Most of the incremental GDP going to those who save rather than spend.

The actual fragile economic recovery, no inflation in sight, and a real natural rate of interest close to zero, are good reasons for the actual low rates which cope with the actual economic needs. To raise rates now, is to increase the risk of returning into a recession again, without enough fire power to combat it. It is a price risk too high to pay, just to try to restore financial and banking margins.

It is somewhat of an "if it ain't broke, don't fix it" argument. The Federal Reserve should not raise interest rates as long as the current modest growth rates and tepid inflation situation exists. To raise rates just to bring back normality or to head off future inflation that may or may not actually occur, is an experiment with the economy that is not worth taking.
Most likely a 2015 Federal Reserve rate hike would not affect the economy much. However, with the markets in turmoil worldwide and competitive devaluations popping up all over, it could be a colossal mistake. The question is whether the Federal Reserve rate hike in 2015 could be another 1931 when the Federal Reserve increased interest rates and made sure that there would be a depression or it would be another 1937 (which is somehow remembered much more that the 1931 mistake). The 1937 mistake "only" halted the recovery and sent unemployment up from 14.18% in 1937 to 18.91% in 1938.
I saw presidential candidate Rick Santorum in a television interview saying that he would not reappoint Janet Yellen because he believes that the Federal Reserve has erred in "propping up" the economy which has allowed the Federal Reserve government to avoid taking the measures that would restore the economy to full employment. He indicated that balancing the budget would bring full employment and if the Federal Reserve stopped propping up the economy the Federal Government would thus be "forced" to balance the budget in order to restore economic growth. I would hope that Janet Yellen and the other members of the Federal Reserve open market committee, think long and hard and consider the thought process of those who are advocating raising rates as compared to those like Paul Krugman who are urging caution.
The best analogy that I can think of for the Federal Reserve raising rates in the middle of the "currency wars" competitive devaluation, such as what is happening now, would have been for the response of the US government's to the Pearl Harbor attack to have been to destroy the US Army's ammunition stores.
One possible scenario that could occur if the Federal Reserve does increase rates, is that countries such as China would drastically devalue their currencies relative to the US dollar. China and other countries could make the not unreasonable argument that by raising rates the USA cannot complain about the value of the dollar since raising rates causes a currency to appreciate. A large enough increase in the value of the dollar could destroy many of the basic industries in the USA and throw us into a deep recession.
Those within and without the Federal Reserve would have a powerful "I told you so" if raising rates does have severe negative consequences. This could prompt the Federal Reserve to adopt a new policy, similar to that of Japan during most of the last 20 years. This new policy would be to say that the new "normal" policy is that interest rates are only increased in response to clear and unambiguous evidence that the economy is overheating and that inflation is getting out of hand. .."
http://seekingalpha.com/article/3593666

If central bankers would have been able to create the right circumstances for flourishing economies, then we would have many today. In the world of finance the exchange of trust is made possible. Any policymaker should first think about the possibly devastating consequences of a break of trust before acting to build trust via intervention.

Under normal circumstances, central banks have been able to keep both unemployment and inflation under control for the past half century by adjusting interest rates. The problem now is that the recession of 2008 was so severe that central banks exhausted their ammunition - they dropped rates to zero and it still wasn't enough. We are still living in that world.

The rational response would have been much more government deficit spending than we got. That could have cured the problem quickly. But in the absence of that, the best we can do is to keep interest rates at the floor until the world economy returns to normal. It's not at normal yet, and it won't be until we see normal behaviour in which interest rates like these actually do cause inflation, the way they normally would.

Exactly. I used to look at graphs of interest rates in the great depression and wonder how on earth they could have been so stupid as to raise rates in the middle of it. I have a lot more insight on that now.

This is as succinct and compelling an explanation for moving back to some kind of financial normalization that we have seen thus far. Instead of markets waiting breathlessly for the results of that latest installment of the never ending economic faculty meeting that the Fed has become, the Open Market Committee should let the market itself set overnight rates and intervene only rarely.

By ignoring asset bubbles, you are making the same mistakes the Fed between 2001-2008 when it kept interest rates too low following the dotcom crash, as it focused too much on below average inflation and not enough on asset markets. This allowed Americans to acquire lots of debt, which deepened the impact of the 2008 financial crisis.

Also, why do you believe that the US is on the brink of a liquidity trap? The US is the fastest-growing major economy in the world; unemployment is low; wages are growing; consumer confidence is high and the savings ratio is falling. Yes, inflation is low, but this mostly due to commodity prices, and anyway, the link between CPI and the 'real economy' is tenuous. Raising interest rates by 0.25-0.5% won't cause a crisis.

I agree with Mr. Roach. I believe there is another reason why the Fed is choosing not to raise rates. There are many people waiting to blame the Fed for choking the recovery by raising rates. On the other hand, few could blame the Fed for allowing an asset bubble - it is not their mandate.

I think the central argument here is that loose monetary policy on the part of the central banks (the Fed being the most prominent) is both ineffective and dangerous. It is ineffective with respect to the goal of increasing inflation since price levels are currently determined by factors that are orthogonal to money supply. And it is dangerous since the only real effect of this policy is in fact inflation, but inflation of the wrong sort: that of financial assets. And to get a sense for the kind of danger that this kind of inflation can lead to, one only has to look back to the fall of 2008.
Of course, the counter argument is that monetary policy and the price level are not truly independent since it is hard to see the real economy benefitting from making money more expensive (i.e. a rise in interest rates).
Still, it is a thoughtful argument, given that the financial history of the last 20 years or so has been one asset bubble after another, while the measurable effect on real economic activity of these easy money policies is hard to discern.

Global Forces that drive down price pressures - and inflation - are difficult to factor inside predictor models.
Commodity producers indulgence with warfare, requires them to increase Commodity supplies to balance their books.
The principal protagonists in today's global games are acquiring arms - usually from The West.
The price of these weapons supplied and their volumes, rarely factored into Central Banking Analytics.
Imported inflationary pressures - from Commodities producers - disappear into smoke when Weapons and warfare enter the equations.
Their battles to secure their geographies builds an Insecurity premium/discount - affecting inflationary forces worldwide.
The enormous enhancement in Debt within Commodity producing countries has also increased pressures to supply more.
Central Bank Governors have never factored such global forces into Inflation models.
The need to enhance commodity supplies and its linkage with Insecurity premium - is a known 'unknown'.
The need to enhance commodity supplies and its linkage with Domestic Debts - is an unknown 'known'.

Wrong, wrong, and wrong - what the US Federal Reserve must do is not going back to the monetary system that prompted the 2007-9 "Great" Recession into a Parts Equilibrium's approach by using other than the Interest Rate variations to keep the Economy into a low inflation stability - what could be considered insufficient by the Feds approach is the lack of structural reforms that would improve the market security and Transmission-ability, that has nothing to do with the Monetary System of the Past!

guess what Mr Roach was trying to communicate is that the US Fed is just setting the targeted inflation rate for show only, so that they may a reason -however unrealistic- not to raise interest rates. Guess also most "authorities" will establish "defence" before they attempt -if they ever will- to act more proactively.

I'm confused. You identify weak aggregate demand as one of the "likely drivers" of global economic weakness yet prescribe targeting financial instability through raising benchmark interest rates. Why not target the "likely driver" that you identify directly, or at least not promote policies that would further exacerbate it? Raising benchmark rates would only serve to further depress aggregate demand and in turn global weakness, no?

While methods to measure inflation may be flawed, is it still not difficult to argue that prices are growing at the desired rate of 2 percent? Will tightening monetary policy on the fear of creating financial instability not reverse whatever little gain that has been made in pushing up inflation?

This is due to the discord between the reality on the ground (meaning the lack of disclosure of the “real” unemployment figures, the “real” growth or shall say deflationary figures and so on). The population are struggling and their governments’ / central bankers sole “paranoia” is to continue beautifying the figures. To deal with financial instability one must deal first with financial disparity….The 1% you know…

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